Blame Canada?

Unlike the USA and most of western Europe in 2008-2009, Canada did not have a financial crisis. Quite a few columns and articles were written about the superior stability of Canada’s financial system, which is much more concentrated but is apparently much more tightly regulated and has captured far fewer politicians and regulators than its US counterpart. I meant to blog about that but never got around to it.

Which makes Krugman’s recent post about Canada‘s still-raging housing bubble fascinating reading. In brief: housing prices in Canada experienced much the same run-up as US housing prices in the mid-2000s but instead of plummeting after 2007, have kept on rising. They are now more than double their 1975 level, whereas US house prices peaked at about 190% of that level. Canadian household debt as a percentage of income also never stopped rising and is now slightly above the US ratio.

Does this mean Canada is headed for a financial crisis? Not necessarily. Canada’s financial sector still looks sedate compared to its high-flying, reckless US counterpart. But you can have a collapsing bubble and severe recession without a financial crisis. Canada did not escape the worldwide 2008 recession and has made a fair recovery, but it is not hard to see where the next big blow could come from. Dean Baker has emphasized that the recent US financial crisis depended far less on subprime borrowing, securitization, credit default swaps, and the other usual suspects and much more on the collapse of a multi-trillion-dollar housing bubble, and the loss of all that wealth and wealth-driven consumption. Not surprisingly, Baker liked Krugman’s post. He adds that the collapse of the housing bubble could be even worse in Canada because 30-year fixed-rate mortgages never took hold in Canada (as they did in the US during the New Deal). The standard mortgage in Canada has to be paid off or refinanced in five years, so when interest rates rise from their current record lows (1% is the current benchmark short-term rate in Canada), millions of homeowners could see their monthly payments shoot up. The scenario is similar to the expiration of low “teaser rates” on adjustable-rate mortgages (ARMs) in the US in 2006-2008, but could be even worse, as the five-year limit appears more common in Canada than ARMs were in America. Could large numbers of defaults on “underwater mortgages” (where amount owed exceeds market value of house) happen in Canada, too?

Funny how this inherit distrust of government is so heightened in this country and has been for so long. And yet, despite the evidence for it, this distrust has not generally been carried over to the same degree toward the private sector. Makes you wonder which war we are really still fighting more: The Civil War…or the Revolutionary War.